From The Market Ticker:
Bloomberg has an interesting story up on the AIG derivative “payoff” mess I’ve repeatedly written about (just stick “aig & billions” into the search box and start reading. Make sure you have a lot of time):
Beginning late in the week of Nov. 3, the New York Fed, led by President Timothy Geithner, took over negotiations with the banks from AIG, together with the Treasury Department and Chairman Ben S. Bernanke’s Federal Reserve. Geithner’s team circulated a draft term sheet outlining how the New York Fed wanted to deal with the swaps — insurance-like contracts that backed soured collateralized-debt obligations.
Part of a sentence in the document was crossed out. It contained a blank space that was intended to show the amount of the haircut the banks would take, according to people who saw the term sheet. After less than a week of private negotiations with the banks, the New York Fed instructed AIG to pay them par, or 100 cents on the dollar. The content of its deliberations has never been made public.
Where did the NY Fed get this authority? Remember, this wasn’t the NY Fed’s money – it was ours. Where was it appropriated by Congress? This was not part of TARP – AIG was separate.
All appropriation bills must originate in The House.
This one didn’t originate at all. It was simply arrogated by The Federal Reserve and the NY Fed.
Section 13(3) of The Federal Reserve Act allows The Fed to lend to anyone under “unusual and exigent circumstances.” But this was not a loan. It was a pass-through payment to Goldman Sachs and other banks for credit-default swaps that were in fact functionally worthless, as AIG was functionally bankrupt. Why was it done?
One reason par was paid was because some counterparties insisted on being paid in full and the New York Fed did not want to negotiate separate deals, says a person close to the transaction. “Some of those banks needed 100 cents on the dollar or they risked failure,” Vickrey says.
And which of those banks were at risk of failure? Goldman? Merrill? Deutche Bank or Soc Gen?
This deal was even worse than it first appeared. The Fed also took a bunch of assets (which, it appears, is flatly illegal) and set them forward in an “off balance sheet” thing called Maiden Lane. How are they doing?
According to a quarterly New York Fed report on its holdings, the $29.6 billion in securities held by Maiden Lane III had declined in value by about $7 billion as of June 30.
Remember, Bernanke has repeatedly told us that The Federal Reserve was highly unlikely to lose any money on any of their programs.
In reality it looks like the loss – so far – has been 25%.
If that’s “unlikely” I’d like to know what “likely” is.
More to the point, this appears to be an unauthorized appropriation of funds in fact by The Federal Reserve and NY Fed in which not only United States asset losses but those of FOREIGN INTERESTS were effectively transferred to the US Taxpayer without Congressional review or approval.
“I think the Federal Reserve was trying to stop the spread of fear in the market,” Poole says. “The market was having enough trouble dealing with Lehman. If you add, on top of that, AIG paying off some fraction of its liabilities, a system which is already substantially frozen would freeze rock-solid.”
The Fed created this mess. “Loose money” along with willful blindness to reasonable regulatory requirements and in fact black-letter statutory requirements under the law to apply “prompt corrective action”, along with wanton and reckless refusal to supervise and impose controls on firms levered 20 or even 30:1, especially given that Henry Paulson lobbied the SEC to remove the investment bank leverage limits in 2004, were the actual and proximate cause of all the failures.
Fannie, Freddie, AIG, Bear Stearns and Lehman – all were levered at more than the former 14:1 limit when they blew up by at least two and in three cases more than five times. Every one of these failures is directly traceable to excessive leverage, a policy enabled by and lobbied for by Hank Paulson before he was appointed as Treasury Secretary.
That The NY Fed refused to step in and prohibit firms under its regulatory authority from engaging in counterparty transactions with AIG until and unless AIG had first proved it was sufficiently capitalized to honor all of it’s commitments, is a gross dereliction of regulatory duty.
The argument that The Fed was “powerless” to regulate AIG itself is immaterial – The Fed absolutely had the ability to regulate those firms under it jurisdiction in their trading with AIG.
In allowing systemic leverage to be concentrated and ramped up to 20, 30, even 80:1 or more against actual capital as was the case with Bear Stearns, Lehman and AIG, The Fed was explicitly involved in both setting the table and assembling the financial nuclear device that went off on Bear’s, Lehman’s and AIG’s balance sheets.
Then you have Friedman:
Friedman’s role remains controversial. In December 2008, weeks after the payments to the banks were authorized in November, Friedman bought 37,300 shares of Goldman stock at $80.78 a share, according to SEC filings. On Jan. 22, he bought 15,300 more at $66.61.
“We limited our overall credit exposure to AIG through a combination of collateral and market hedges,” Viniar said. “There would have been no credit losses if AIG had failed.”
If that’s true then Goldman double-dipped and owes the taxpayer the full amount paid it through AIG.
If that’s false then one wonders whether SarBox, which is supposed to prohibit false statements by company executives, has any meaning at all.
The NY Fed and Federal Reserve must be compelled to open their books – not only on this sordid mess, but on all of their activities.
If these institutions are going to be transacting with the public’s checkbook the public has a right to know exactly what they’re doing, never mind that the black letter of The Constitution requires that all appropriations – that is, public spending – originate not in some smoky room at the NY Fed but rather in The Halls of Congress.
The Constitution is not “Articles of Suggestion.”